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Securities and Exchange Commission v. McGinn, Smith & Co., Inc.

United States District Court, N.D. New York

February 21, 2014

McGINN, SMITH & CO., INC., et al., Defendants.


JAMES D. LINNAN, ESQ., LINNAN & FALLON, LLP, Albany, New York, Attorney for Defendant Trust, Geoffrey Smith & Lauren T. Smith.


CHRISTIAN F. HUMMEL, Magistrate Judge.

Presently pending before the Court is a motion from counsel for the David L. and Lynn A. Smith Irrevocable Trust U/A 8/04/04 ("the Trust") and the Trust beneficiaries, Geoffrey and Lauren Smith, to amend the Trust to delete the provisions authorizing the Trust to enter into the private annuity agreement with David and Lynn Smith. Dkt. No. 660. Plaintiff Securities and Exchange Commission ("SEC") opposes the motion. Dkt. No. 673. For the reasons which follow, the motion is denied.

I. Background

A. Prior Court Orders

For a more complete description of the background of this action, specifically the creation of the Trust, discovery and impact of the annuity agreement, and dispute over who has a beneficial interest in the Trust, see S.E.C. v. McGinn, Smith & Co. , 752 F.Supp.2d 194 (N.D.N.Y. 2010) (finding that the Trust was not jointly owned or otherwise an asset of David Smith and denying to include the Trust in the asset freeze); S.E.C. v. Wojeski , 752 F.Supp.2d 220 (N.D.N.Y. 2010) (reconsidering prior asset freeze order and subsequently modifying said order to include the Trust) aff'd 432 Fed.App'x 10 (2d Cir. 2011); S.E.C. v Smith , 798 F.Supp.2d 412 (N.D.N.Y. 2011) (issuing sanctions against Lynn Smith, the Trust's attorney and trustee and disgorging funds from Lynn Smith for their conduct in connection with concealing the existence of the annuity agreement) aff'd in part 710 F.3d 87 (2d Cir. 2013) (upholding sanctions and disgorgement order against Lynn Smith for her bad faith in not revealing her interest in the Trust).

B. Amendment of the Trust Documents

As is relevant to the current motion, with the shift in current tax laws, gift taxes will no longer be imposed upon the corpus of the Trust; therefore, the Trust wishes to amend its creation documents to terminate the annuity agreement as its stated purpose by its counsel, creators, and beneficiaries, to shield the Trust from gift taxes, is no longer present. Linnan Decl. (Dkt. No. 660-1) ¶¶ 9-11. Accordingly, pursuant to New York State Estates, Powers and Trusts Laws ("N.Y.E.P.T.L.") § 7-1.9, the Trust asserts its "absolute right to amend the provisions of the Trust... regardless of the purpose or motive for the amendment." Id . ¶¶ 12-13. The creators of the Trust, David and Lynn Smith, have submitted affidavits "agree[ing] to amend the original Trust and... renounc[ing] any and all rights [they] may have now or in the future to any benefits from the Trust by way of the Declaration of Trust and the Private Annuity Contract executed pursuant to the terms of the Declaration of Trust." Lynn Smith Aff. (Dkt. No. 660-3) ¶ 1; David Smith Aff. (Dkt. No. 660-4) ¶ 1; see also Second Lynn Smith Aff. (Dkt. No. 662) ¶¶ 2-3, 10-12 (restating the purpose of the requested amendment given the change in the tax laws, as well as the desire of both Lynn and David Smith to amend Trust documents to void the annuity contract and any future interest to which it entitled them); Dkt. No. 662-4 (explaining changes to estate and gift tax laws). The beneficiaries of the Trust and current trustee, Geoffrey and Lauren Smith, also submitted affidavits echoing their parents' sentiments that, given the change in the IRS laws, the amendment of the Trust would be in the best interest for all involved and consenting to its modification, specifically the termination of the annuity contract. See Geoffrey Smith Aff. (Dkt. No. 660-5), Lauren Smith Aff. (Dkt.No. 660-6).

The SEC opposes the current motion arguing that the (1) trustee lacks the authority to modify the Trust under the asset freeze order; (2) motion to modify the asset freeze is not in the best interests of the investors; and (3) N.Y.E.P.T.L. does not supercede the present injunction and is irrelevant to the present motion. Pl. Memorandum of Law (Dkt. No. 673). The Trust contends that (1) it is the creators and beneficiaries of the Trust who must reach an agreement to the modification, not the trustee; (2) public policy behind the N.Y.E.P.T.L. was "to enhance, not restrict the modifiability of trusts... supplementing the courts' broad-based equitable authority to permit deviation to effectuate a trust's purpose;" and (3) the best interests of the investors is irrelevant as the operable question deals "with a very narrow and unique issue of the Creator's rights under New York State [law]... to amend a Trust Document' and whether or not that right can be abridged by the mere pendency of a potential claim." Trust Reply (Dkt. No. 678).

II. Discussion

New York State law provides, in pertinent part, that "[u]pon the written consent... of all the persons beneficially interested in a trust... the creater of such trust may revoke or amend the whole or any part thereof by a[ written] instrument...." N.Y.E.P.T.L. § 7-1.9(a). Accordingly, pursuant to state law, all that is needed is the consent of all beneficiaries and the grantor of the trust may amend or revoke it. Further, counsel for the Trust advocates that David and Lynn Smith can renounce their interests in the Trust, namely the money which they would have received pursuant to the annuity agreement, according to N.Y.E.P.T.L. § 2-1.11(c) as the "statute creates a legal fiction that allows distributees to avoid attachment by creditors or the payment of taxes." Trust Memorandum of Law (Dkt. No. 668-1 at 8-9) (quoting United States v. Comparato , 22 F.3d 455, 457 (2d Cir. 1994) (citations omitted)).

However, the Trust is presently part of a preliminary injunction which froze certain assets, including the corpus of the Trust, and appointed a Receiver to oversee such frozen assets. The terms of that injunction prohibit, inter alia the Trust or Smiths making "any withdrawal, transfer, pledge, encumbrance, assignment, dissipation, concealment or other disposal of any assets, funds, or other property...." Dkt. No. 4 at p. 7 § II. While the Trust contends that the injunction and asset freeze are "merely... provisional remed[ies], " (Trust Reply at 5), the importance of these remedies have already been determined by the Court. Further, the Trust has again failed to cite any authority for the proposition that state law supercedes the federal law which authorized the pending injunction.

The Trust's arguments seem to over simplify the applicability of § 7-1.9, or at least fail to recognize the equitable powers and duties of the court. As ...

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